Carbon markets’ dirty secret: Why the numbers don’t add up

How can we build trust in carbon markets if we cannot even agree on how to measure and count carbon?

More people now view carbon markets as a way to fight climate change. The idea is straightforward in that it puts a price on carbon, incentivising companies with a financial reason to cut their emissions.

Companies often use their investments in carbon credits and emissions trading schemes to show, in reports and public statements, that they are committed to a greener future.

But what really happens behind the scenes, in the financial statements and accounting records where these carbon assets are tracked? When we look beyond public relations and examine the audited financial reports, matters become much less clear.

The basic system for carbon accounting is worryingly fragmented and inconsistent. Without clear rules, hidden risks for investors grow, and the market loses the transparency it is supposed to offer.

Although the market is making progress, the following three major challenges continue to affect carbon accounting.

1. Financial accounting for carbon is a ‘Wild West’

The most challenging fact about the multi-billion-dollar carbon market is that there is no authoritative International Financial Reporting Standard (IFRS) or Generally Accepted Accounting Principles (GAAP) that dictates how companies must account for the carbon credits and allowances they buy and sell.

Major global accounting organisations have not set clear rules. An early effort, called International Financial Reporting Interpretations Committee (IFRIC) 3, was introduced but quickly withdrawn, leaving a regulatory gap.

Without official guidance, companies have created their own policies, leading to a mix of different ways to classify carbon assets. Some treat them as inventory, while others call them intangible or financial assets.

The inconsistencies go even further. Companies also measure these assets differently: some use the original cost, while others use fair market value. Even more concerning, many only record a liability when emissions go over their allowances.

As a result, two companies with the same carbon positions could show them in completely different ways, making it impossible for investors to compare them meaningfully.

2. Companies can hide their carbon exposure

One serious result of having no standards is poor disclosure. Without rules, companies can choose to share very little or nothing at all about their carbon market activities in their financial reports.

This means a company’s carbon risks and market positions are hidden from people who use financial statements, such as investors, lenders and regulators. The common practice of recording a liability only after emissions exceed allowances creates a significant blind spot.

A company could be on a trajectory toward a huge future carbon debt, yet its financial statements would show no sign of the impending liability, leaving investors completely in the dark. This creates a jarring disconnect between the polished green marketing many companies present to the public and the opaque financial reporting they deliver to shareholders.

3. The ‘apples and oranges’ problem of counting carbon

The accounting problem extends beyond financial records to the measurement of carbon. As in financial accounting, there are numerous incompatible standards for measuring carbon dioxide emissions.

For example, a company might use the well-known GHG Protocol, its suppliers might use ISO standards, its financiers might use the Partnership for Carbon Accounting Financials (PCAF), and its climate goals might be set by the Science Based Targets initiative (SBTi).

This mix of standards creates a classic ‘apples and oranges’ problem. It makes it hard to be transparent, trace emissions, or compare offsets, especially for the complex Scope 3 emissions in a company’s supply chain.

Without a shared measurement standard, it is almost impossible to reliably track, compare or audit emissions data across companies, industries, or countries. The value of a carbon credit depends on how it is measured, and right now, everyone is using different methods.

Building a carbon accounting standard and system we can trust

In practice, the carbon market is built on financial accounting without official rules, leading to poor disclosure and hidden risks. This problem is exacerbated by the numerous standards for measuring emissions.

The lack of a coherent system threatens to undermine the market’s credibility and effectiveness. In response, market observers are converging on a solution to develop a unified carbon accounting landscape governed by a single standard.

This means establishing enforceable rules that link accurate carbon measurement to clear financial accounting for allowances, credits and offsets. As carbon markets become more important for climate goals, how can we build trust if we cannot even agree on how to measure and count carbon?

Cover photo:  peshkova©123rf.com